Investment Highlights

• We maintain our forecasts and fair value of RM0.90 based on 8x FY21F EPS, in line with our benchmark forward target PE of 8x for small-cap construction stocks. Maintain HOLD.

• HSL’s FY20 net profit missed our forecast by 11% but met consensus estimates. The variance against our forecast came largely from weaker-than-expected construction margins, we believe, due to higher operating cost on the back of various operational restrictions and disruption amidst the pandemic, particularly, the shortage of migrant workers in East Malaysia.

• Its FY20 net profit plunged 41% YoY as the movement control order (MCO) hurt both construction activities (work suspension coupled with disruption to material supply chain) and property sales, especially in 2QFY20. Construction EBIT margin contracted by 2.5 percentage points to 4.9% as the unit continued to incur certain overheads despite construction activities coming to a complete halt at the height of the pandemic, coupled with additional costs in relation to Covid- 19 prevention standard operating procedure thereafter.

• We estimate that HSL only managed to secure about RM100mil worth of new jobs in FY20 as the rollout of public projects was disrupted by the pandemic. We also estimate that its outstanding construction order book currently stands at RM1.8bil. Our forecasts assume job wins to normalise to RM400mil annually in FY21–23F, after a lull in FY20.

• We maintain our view that the government will have very limited room for fiscal manoeuvre in 2021 given the elevated national debt, even before the pandemic. The government’s fiscal position has been weighed down further by the economic impact of the pandemic (including reduced tax and petroleum revenues), as well as the massive relief spending to cushion the economic impact of the pandemic. All these have culminated in Fitch Ratings’ Dec 2020 downgrade of Malaysia’s long-term foreign-currency issuer default rating to ‘BBB+’ from ‘A-‘, on the heels of S&P Global Ratings’ June 2020 downgrade of Malaysia’s outlook to negative from stable).

• Under these circumstances, we believe the government is unlikely to roll out new public infrastructure projects in a major way over the short term. Also, given the suspension of parliament following the declaration of a state of emergency until 1 Aug 2021, the tabling of the 12th Malaysia Plan (which, among others, will earmark mega public infrastructure projects to be implemented in 2021–2025) scheduled for March 2021 could now be put on the back burner.

• In Sarawak, on a brighter note, there is a fair chance that the state could step in to fill the gap with the RM11bil state reserves-fuelled infrastructure projects comprising the Coastal Road, Second Trunk Road and 11 mega bridges (ahead of the state election which must be held by Sep 2021).

• For HSL, the uncertain sector outlook is partially mitigated by its competitiveness due to its niche strength in marine works/land reclamation. However, its valuations as a small-cap construction outfit are fair at 9x forward earnings on muted growth prospects.

Source: AmInvest Research - 1 Mar 2021